Kinder Morgan Energy Partners' (NYSE: KMI ) exposure to carbon dioxide makes the partnership a unique one. No other major, diversified partnership has exposure to both CO2 production and sales and the upstream oil activity in which the CO2 is used.
Exposure to upstream CO2, or CO2-injection oil recovery, has been one of the major talking points in media attack pieces on Kinder Morgan. A claim made repeatedly by Barron's for example, is that once CO2-based oil production matures and declines, Kinder Morgan's distributions will also decline. Many view CO2 as Kinder Morgan's weak link, but nothing could be further from the truth. While it is certainly true that every oil field will eventually decline, I don't believe CO2 exposure should be viewed as a weakness.
This chart illustrates exactly why. As CO2 recovery techniques improve, management continues to put off the inevitable date of "peak CO2." Meanwhile, output continues to grow. The current estimate is for production to peak in 2017 and begin declining by about 2019. That's five years from now, and Kinder Morgan is pretty certain that growth in other sectors will offset the decline in CO2. And who's to say that CO2 production will not again be revised upward within the next five years?
CO2-injection oil recovery is quietly becoming an integral part of oil production in North America and elsewhere. As traditional oil basins mature and conventional pressure pumping becomes less effective in those locations, oil companies have turned to enhanced recovery techniques to bolster production. CO2 injection is the foremost of these methods. Here are some tidbits that show just how successful it has been.
Occidental Petroleum (NYSE: OXY ) is one of America's biggest oil producers and has a wide array of acreage around the world. Occidental is also the third-largest producer via CO2-injection, and the company's CO2-injection segment is consistently the most profitable part of its business.
Kinder Morgan is the second-biggest producer, and CO2 is also its most profitable segment.
Denbury Resources (NYSE: DNR ) is the largest producer and the only CO2-injection pure play in the country. Denbury's margins generally outstrip those of every other major producer in the lower 48.
None of these above facts are coincidences. CO2-injection oil recovery is highly profitable because it is done in already established basins using vertical drilling. Furthermore, the oil extracted using these methods is at relatively shallow depths.
Late last month, Kinder Morgan announced it would spend $1 billion on another CO2 pipeline running from northern New Mexico to the Permian Basin. The pipeline will feed Kinder Morgan's CO2 fields and will be operational in early 2016. It is not yet clear whether this project will further delay "peak CO2," but the project will certainly add high-margin cash flow.
Viewing CO2-injection drilling as a point of weakness for any upstream company is often a highly flawed assumption. Yes, oil fields with CO2 injection will eventually decline, but for now there are industry-leading margins to be made in America's oldest producing basins, and Kinder Morgan is doing just that.
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